With S&P facing billion-dollar fines for defying the narrative, Goldman Sachs just dared to go even further against the US government by suggesting that the new oil order may be a blessing in disguise for Russia’s oil industry. Simply put, the impact of the lower oil price and sanctions on the Russian economy increase the importance of oil industry tax reform, which could provide stimulus for upstream investments and commercialisation of the country’s vast oil reserves. An acceleration of upstream/downstream tax rebalancing could incentivise the development of substantial new basins in Russia, leading to a production capacity increase and a reduction in refining volumes to levels necessary to supply the domestic market. As a result, in Goldman’s view, Russian crude exports would increase, improving the country’s current account, government revenues would grow, and upstream would attract material incremental investments.

Via Goldman Sachs,

The new oil price environment, the impact of sanctions on upstream developments, and the emergence of the Eurasian Economic Union (Kazakhstan, Belarus and Russia) are likely to lead to a major tax reshuffle in the Russian oil industry, in our view. Russia’s dependence on the oil market makes the country’s economy highly vulnerable to the new oil price reality. Consequently, we believe Russia might need to create a stimulus for new upstream developments to go ahead, otherwise it could see falling oil revenues and further deterioration in the economy. In addition to this, the formation of the Eurasian Economic Union requires the gradual unification of export duties. All these suggest a tax overhaul in the Russian oil industry might not be far off.

In this note, we outline what shape we think potential tax reform might take and what would be the implications on the Russian oil industry, Russia in general and Russian oil equities.

Why we think change is needed?

The current tax regime indirectly subsidises both the Russian refining industry and Russian consumers, via low fuel prices, while the tax burden on Russian upstream is one of the highest in the world. Effectively, refining and consumers are subsidised by upstream. Removal of this subsidy and the simultaneous reduction of the upstream tax burden could boost upstream profitability, while keeping the government’s take from the industry unchanged; consumers and refining, not the government, would therefore fund the expected increase in upstream profitability. A lower upstream tax burden would make currently-stranded reserves commercially recoverable, which would boost production and export volumes, helping the country to sell more oil on international markets and offset the negative impact of price decline.

For the conclusion, see below –
Conclusion: Tax manoeuvre is the beginning of a wider reform

The Russian government’s tax manoeuvre reduces export duties for both crude oil and light products, while MET (which originates at the point of production) increases. However, the profitability of light products sales remains high and the tax differential between crude and products looks set to stay in place. In our opinion, these tax regime changes are not final, and we think there could be more adjustments to follow. We believe the government is trying to maintain its subsidy to the refining industry, but we see several factors that could lead to the gradual cancellation of the refining tax subsidy and the elimination of export duties as a fiscal tool: (a) integration of the Eurasian Economic Union of Belarus, Kazakhstan and Russia; (b) the need to increase budget revenues; and (c) the need to provide more economic incentives for new upstream developments. Yet, it does not appear that the government is ready to introduce radical changes, as it appears to be proactively trying to maintain the refining industry tax subsidy. However, we think the government might gradually approach the point where reform could be economically necessary. That could be years from now and, until that time, Russian oil industry taxation is set to remain a topic of continued debate within the government, the Kremlin and company managements. Hence, we expect the Russian oil industry tax regime to continue to be subject to regular adjustments to the tax law. This would not be positive for Russian oil equities, as it would introduce a high level of uncertainty into future projections.